Investment Dictionary

Index Options

Index options are derivative financial instruments that provide for the buyer of the option the right (possibility) to make profits from index value changes. It may be a good investing instrument for the investor who wants to limit the risk exposure but earn maximum from value changes of index.

For example, if investor buys a call index option and pays $2 for it when index value is at $10 and the strike price is $10, after some period index value rises to 20$, investor earns $8 ($20 index value - $10 strike price - $2 expenses for the index option).

Index options are very risky investments as well as all other options and should be used by investors only in very specific cases or for defensive hedging strategies. Even experienced investors should watch that value of options would not exceed 5% in the investment portfolio. Index options turn to zero value very quickly.

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